Annual report of the Court of Auditors on the activities funded by the 8th, 9th, 10th and 11th European Development Funds (EDFs) concerning the financial year 2015, together with the Commission's replies
Date: 2016-10-13
Institutions: European Court of Auditors
Subjects: European Development Fund, activity report, auditing, budgetary assessment, general budget (EU), implementation of the budget




C_2016375EN.01028701.xml










13.10.2016   


EN


Official Journal of the European Union


C 375/287





ANNUAL REPORT ON THE ACTIVITIES FUNDED BY THE 8TH, 9TH, 10TH AND 11TH EUROPEAN DEVELOPMENT FUNDS (EDFs)
(2016/C 375/02)

Annual report on the activities funded by the 8th, 9th, 10th and 11th European Development Funds (EDFs)

TABLE OF CONTENTS





Introduction
1-12








Brief description of the European Development Funds
2-12








Areas of expenditure less prone to errors
9-12








Chapter I — Implementation of the 8th, 9th, 10th and 11th EDFs
13-17








Financial implementation
13-17








Chapter II — The Court’s statement of assurance on the EDFs
18-50








The Court’s statement of assurance on the 8th, 9th, 10th and 11th EDFs to the European Parliament and the Council — Independent auditor’s report
I-IX








Information in support of the statement of assurance
18-50








Audit scope and approach
18-21








Reliability of accounts
22-24








Regularity of transactions
25-35








Examination of annual activity reports and other elements of internal control systems
36-50








Conclusion and recommendations
51-54








The conclusion for 2015
51-52








Recommendations
53-54










Annex 1 —

Results of transaction testing for the European Development Funds











Annex 2 —

Follow-up of previous recommendations for the European Development Funds























THE COURT’S OBSERVATIONS



 





INTRODUCTION











1.


This annual report presents our assessment of the European Development Funds (EDFs). Key information on the activities covered and spending in 2015 is provided in 
Figure 1
.






 





Figure 1 —   European Development Funds — Key information 2015























(million euro)




Total operational expenditure (projects)


2 337 




Total operational expenditure (budget support)


763




Total administrative expenditure (63)



110





Total payments




3 210 






- advances




-1 727 






+ clearings of advances




1 661 






Audited population




3 144 





 


 





Total individual commitments
 (64)




4 008 





 


 





Total global commitments
 (64)




5 034 











 





THE COURT’S OBSERVATIONS



 





Brief description of the European Development Funds











2.


Since 1958, the EDFs have been the main instrument for providing European Union aid for development cooperation to the African, Caribbean and Pacific (ACP) States and overseas countries and territories (OCTs). The partnership agreement signed in Cotonou on 23 June 2000 for a period of 20 years (‘the Cotonou Agreement’) is the current framework for the European Union’s relations with ACP States and OCTs. Its main focus is on reducing and eventually eradicating poverty.






 










3.


The EDFs are of a particular nature:






(a)


they are funded by the Member States according to contribution keys (1) set in an internal agreement between the governments of the Member States, meeting within the Council, which are different from those for the EU general budget;










(b)


they are managed by the Commission, outside the framework of the EU general budget, and by the European Investment Bank (EIB);










(c)


due to the intergovernmental nature of the EDFs, the European Parliament has a more limited role in their functioning than that it exercises for the development cooperation instruments financed by the EU general budget: notably, it does not intervene in the establishment and allocation of EDF resources. However, the European Parliament is the discharge authority, except for the Investment Facility managed by the EIB (2)
 (3).










 





THE COURT’S OBSERVATIONS




THE COMMISSION’S REPLIES











4.


Each EDF is governed by its own financial regulation. We have suggested on several occasions that a single financial regulation, applicable to all present and future EDFs, would ensure continuity, without the risk of interrupting the implementation of the EDFs, and simplify management (4).













4.



The Commission has made efforts to simplify the Financial Regulation (‘FR’) and to align it with the FR of the general budget in order to ensure the continuity of the service.














5.


While the EDF financial regulations have been progressively aligned with the General Financial Regulation (5), significant differences remain. One main difference is that the principle of annuality does not apply to the EDFs: EDF agreements are usually concluded for a commitment period of five to seven years, and payments can be made over a much longer period. In 2015, there was spending under four EDFs simultaneously, including the 8th EDF opened as long ago as 1995.






 










6.


The EDFs are managed almost entirely by the Commission’s Directorate-General for International Cooperation and Development (DG DEVCO) (6), which also manages a wide range of expenditure from the EU budget (7).






 










7.


EDF interventions are implemented through projects and budget support (8) under four main arrangements. In 2015, 42 % of payments were made under direct management, including 24 % of the total in payments related to budget support. The remaining 58 % were made under indirect management: 31 % through international organisations, 24 % through third countries and 3 % through national bodies of the EU Member States (9).






 










8.


The expenditure covered in this report is delivered using a wide range of methods implemented in 79 countries. Rules and procedures are often complex, including those for tendering and awarding contracts. The absence of a stand-alone, user-friendly financial regulation for the 11th EDF significantly increases this complexity (10).













8.



The 11th EDF is governed by its own Financial Regulation (‘FR’) (EU) 2015/323 adopted by the Council on 2 March 2015. The real simplification is obtained through the alignment with the general budget FR, which the 11th EDF FR achieved through transparent and clear references to the general budget FR and its Rules of Application (RAP). In this way the 11th EDF FR ensures not only coherence in the applicable financial procedures and greater efficiency, it also allows a reduction in risks and errors.

The rules and templates for tendering and awarding contracts for both general budget and EDF compiled in the Procurement and Grants practical guide (PRAG) developed by EuropeAid, are widely commended by the European federations of contractors.










Areas of expenditure less prone to errors











9.


In two areas the nature of the funding and the payment conditions limits the extent to which transactions are prone to errors. Those areas are budget support (11) and the application of the so-called ‘notional approach’ in multi-donor actions carried out by international organisations (12).






 





Budget support











10.


Budget support contributes to a state’s general budget or its budget for a specific policy or objective. We examined whether the Commission had complied with the specific conditions for making budget support payments to the partner country concerned and verified that general eligibility conditions (such as satisfactory progress in public finance management) had been met.






 










11.


However, the legal provisions offer broad scope for interpretation and the Commission has considerable flexibility in deciding whether the general conditions have been met. Our audit of regularity cannot go beyond the stage at which aid is paid to the partner country. The funds transferred are then merged with the recipient country’s budget resources. Any weaknesses in its financial management leading to misuse at national level will not generate errors in our audit of regularity.






 





THE COURT’S OBSERVATIONS



 





Notional approach











12.


Where EDF funding is subject to specific requirements regarding the eligibility of costs we assess whether those requirements are met. When the Commission’s contributions to multi-donor projects are pooled with those of other donors and are not earmarked for specific identifiable items of expenditure, the Commission assumes that EU eligibility rules are complied with as long as the pooled amount includes sufficient eligible expenditure to cover the EU contribution. This approach, as applied by the Commission, limits the work of the auditors when there are substantial contributions from other donors, which the Commission then considers sufficient to cover any ineligible expenditure we may have found.






 





CHAPTER I — IMPLEMENTATION OF THE 8TH, 9TH, 10TH AND 11TH EDFs






Financial implementation











13.


The 8th EDF (1995-2000) amounts to 12 840  million euro, the 9th EDF (2000-2007) to 13 800  million euro and the 10th EDF (2008-2013) to 22 682  million euro.






 










14.


The Internal Agreement establishing the 11th EDF (13) came into force on 1 March 2015 following ratification by all EU Member States. The 11th EDF totals 30 506  million euro (14), of which 29 089  million euro is allocated to ACP countries and 364,5  million euro to OCTs. These sums include, respectively, 1 134  million euro and 5 million euro for the Investment Facility managed by the EIB, mainly in the form of grants to finance interest-rate subsidies and project-related technical assistance. Finally, 1 052,5  million euro is earmarked for the Commission’s expenditure on programming and implementing the EDF.






 










15.




Figure 2
 shows the use, during 2015 and cumulatively, of EDF resources.






 







Figure 2 —   Use of EDF resources at 31 December 2015



















(million euro)




 


Situation at end of 2014


Budgetary implementation during the 2015 financial year (net) (70)



Situation at end of 2015




 



Total amount



Implement. rate (66)



8th EDF (67)



9th EDF (67)



10th EDF


11th EDF



Total amount



8th EDF


9th EDF


10th EDF


11th EDF



Total amount



Implement. rate (66)












A —



RESOURCES
 (65)







49 100 



 



- 6




- 109




56




27 839 




27 780 




10 412 




15 630 




21 384 




29 455 




76 880 



 











B —



USE






 


 


 


 


 


 


 


 


 


 


 


 


 










1.


Global commitments
 (68)







48 573 




98,9  %




- 12




- 170




- 156




5 372 




5 034 




10 404 




15 533 




21 137 




6 533 




53 607 




69,7  %











2.


Individual commitments
 (69)







44 790 




91,2  %




- 16




- 52




783




3 293 




4 008 




10 385 




15 355 




19 035 




4 023 




48 797 




63,5  %











3.


Payments







38 900 




79,2  %




- 3




43




2 024 




1 024 




3 088 




10 376 




14 985 




15 009 




1 619 




41 989 




54,6  %












C —



Outstanding commitments (B1 – B3)







9 673 




19,7  %



 


 


 


 


 



28




548




6 128 




4 914 




11 618 




15,1  %












D —



Available balance (A – B1)







527




1,1  %



 


 


 


 


 



8




97




247




22 922 




23 273 




30,3  %















THE COURT’S OBSERVATIONS




THE COMMISSION’S REPLIES











16.


The level of net global commitments made in 2015 (5 034  million euro) was at a historical high (15). This was due to the entry into force of the 11th EDF, which increased the resources available for commitments by 27 839  million euro. The entry into force of the 11th EDF also affected the implementation rates for outstanding commitments, which decreased from 98,9  % to 69,7  % for financing decisions (global commitments) and from 91,2  % to 63,5  % for individual commitments.






 










17.


For its entire area of responsibility (16), DG DEVCO pursued its efforts to reduce old prefinancings, old outstanding commitments (17) and the number of open expired contracts (18). The 2015 targets for reduction of old prefinancings and unspent commitments were largely exceeded (19). However, while the 2015 target for the share of expired contracts in relation to the total number of contracts was almost met for DG DEVCO’s portfolio as a whole (20), progress was less satisfactory in respect of the EDFs (21).













17.



The main problems preventing the closure of expired contracts for EDF are: recovery orders not cashed, legal cases and ongoing audit process. Although these aspects are not entirely under its control, the Commission will pursue its efforts to speed up the closure of expired contracts.









CHAPTER II — THE COURT’S STATEMENT OF ASSURANCE ON THE EDFs






The Court’s statement of assurance on the 8th, 9th, 10th and 11th EDFs to the European Parliament and the Council — Independent auditor’s report











I —


Pursuant to the provisions of article 287 of the Treaty on the functioning of the European Union (TFEU) and Article 49 of the Financial Regulation applicable to the 11th EDF, which also applies to previous EDFs, we have audited:






(a)


the annual accounts of the 8th, 9th, 10th and 11th European Development Funds which comprise the balance sheet, the economic outturn account, the statement of cash flow, the statement of changes in net assets and the table of items payable to the European Development Funds and the report on financial implementation for the financial year ended 31 December 2015 approved by the Commission on 15 July 2016; and










(b)


the legality and regularity of the transactions underlying those accounts within the legal framework of the EDFs in respect of the part of the EDF resources for whose financial management the Commission is responsible (22).













Management's responsibility











II —


In accordance with Articles 310 to 325 of the TFEU and the applicable Financial Regulations (23), management is responsible for the preparation and presentation of the annual accounts of the EDFs on the basis of internationally accepted accounting standards for the public sector (24) and for the legality and regularity of the transactions underlying them. This responsibility includes the design, implementation and maintenance of internal control relevant to the preparation and presentation of financial statements that are free from material misstatement, whether due to fraud or error. Management is also responsible for ensuring that the activities, financial transactions and information reflected in the financial statements are in compliance with the authorities which govern them. The Commission bears the ultimate responsibility for the legality and regularity of the transactions underlying the accounts of the EDFs (Article 317 of the TFEU).









Auditor's responsibility











III —


Our responsibility is to provide, on the basis of our audit, the European Parliament and the Council with a statement of assurance as to the reliability of the accounts and the legality and regularity of the underlying transactions. We conducted our audit in accordance with the IFAC International Standards on Auditing and Codes of Ethics and the INTOSAI International Standards of Supreme Audit Institutions. These standards require that we plan and perform the audit to obtain reasonable assurance as to whether the annual accounts of the EDFs are free from material misstatement and the transactions underlying them are legal and regular.














IV —


An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the accounts and the legality and the regularity of the transactions underlying them. The procedures selected depend on the auditor's judgement, including an assessment of the risks of material misstatement of the accounts and of material non-compliance of the underlying transactions with the requirements of the legal framework of the EDFs, whether due to fraud or error. In making those risk assessments, internal control relevant to the preparation and fair presentation of the accounts, and supervisory and control systems implemented to ensure legality and regularity of underlying transactions, are considered in order to design audit procedures that are appropriate in the circumstances but not for the purposes of expressing an opinion on the effectiveness of internal control. An audit also includes evaluating the appropriateness of accounting policies used and reasonableness of accounting estimates made, as well as evaluating the overall presentation of the accounts.














V —


We consider that the audit evidence obtained is sufficient and appropriate to provide a basis for our opinions.









Reliability of the accounts






Opinion on the reliability of accounts











VI —


In our opinion, the annual accounts of the 8th, 9th, 10th and 11th EDFs for the year ended 31 December 2015 present fairly, in all material respects, the financial position as at 31 December 2015, the results of their operations, their cash flows and the changes in net assets for the year then ended, in accordance with the EDF Financial Regulation and with accounting rules based on internationally accepted accounting standards for the public sector.









Legality and regularity of the transactions underlying the accounts






Revenue






Opinion on the legality and regularity of revenue underlying the accounts











VII —


In our opinion, revenue underlying the accounts for the year ended 31 December 2015 is legal and regular in all material respects.









Payments






Basis for adverse opinion on the legality and regularity of payments underlying the accounts











VIII —


Our estimate for the most likely error rate for expenditure transactions from the 8th, 9th, 10th and 11th EDFs is 3,8  %.









Adverse opinion on the legality and regularity of payments underlying the accounts











IX —


In our opinion, because of the significance of the matters described in the basis for adverse opinion on the legality and regularity of payments underlying the accounts paragraph, the payments underlying the accounts for the year ended 31 December 2015 are materially affected by error.








14 July 2016




Vítor Manuel da SILVA CALDEIRA





President





European Court of Auditors




12, rue Alcide de Gasperi, 1615 Luxembourg, LUXEMBOURG





THE COURT’S OBSERVATIONS



 





Information in support of the statement of assurance






Audit scope and approach











18.




Annex 1.1
 to chapter 1 of the Court of Auditors’ 2015 annual report on the implementation of the budget sets out the key elements of our audit approach and methodology. For the audit of the EDFs, the following specific points should be noted.






 










19.


Our observations regarding the reliability of the EDF accounts concern the financial statements (25) of the 8th, 9th, 10th and 11th EDFs (26) approved by the Commission in compliance with the EDF Financial Regulation (27), together with the accounting officer’s letter of representation received on 18 July 2016. We tested amounts and disclosures and assessed the accounting principles used, significant estimates made by management and the overall presentation of the accounts.






 










20.


For the audit of the regularity of transactions, the following specific points should be noted:






 










(a)


we examined all contributions from Member States and a sample of other types of revenue transaction;






 










(b)


we examined a sample of 140 transactions. The sample is designed to be representative of the entire range of payments within the EDFs. It consisted of 104 payments authorised by 19 EU delegations (28) and 36 payments approved by the Commission headquarters (29). Where errors were detected, the relevant systems were analysed to identify the specific system weaknesses involved;






 










(c)


we assessed systems at DG DEVCO and EU delegations, covering: (i) ex-ante checks by Commission staff, external auditors or supervisors before payments were made, and (ii) monitoring and supervision, notably the follow-up of external audits, verification missions, monitoring visits and DG DEVCO’s 2012-2015 residual error rate (RER) studies;






 





THE COURT’S OBSERVATIONS




THE COMMISSION’S REPLIES











(d)


we reviewed the annual activity report (AAR) by the Director-General of DG DEVCO; and






 










(e)


we followed up our previous recommendations.






 










21.


As indicated in paragraph 6, DG DEVCO implements most of the external assistance instruments financed from the general budget and the EDFs. Our observations concerning both the systems and the reliability of the AAR and the Director-General’s declaration for 2015 relate to DG DEVCO’s entire area of responsibility.






 





Reliability of accounts











22.


Following our observation in the 2014 annual report (30), the Commission included budget support contracts in the cut off estimation of accrued charges for 2015.






 










23.


The Commission also took measures to address the issues raised in the 2013 and 2014 annual reports (31) on the recovery of interest on pre-financing. For interest generated on pre-financing above 750 000  euro, the Commission has put in place an estimation method based on average interest rates and confirmation requests to a sample of delegations. For interest on pre-financing between 250 000  and 750 000  euro, the IT tool developed at the end of 2014 became operational and allowed the Commission to properly record 2,5  million euro of earned interest in the 2015 financial statements.






 










24.


We reviewed a sample of ten recovery orders amounting to 17,7  million euro, which were recorded as operational revenue — recovery of expenses (totalling 35,9  million euro). In three cases, unspent pre-financing amounting to 9,6  million euro was incorrectly recorded as operational revenue and thus overstated the economic result of the year in the provisional financial statements. Although these three cases were corrected by the Commission in the final financial statements, it is likely that similar errors could have occurred in other recovery orders due to the systemic nature (32) of the issue (33).













24.



In two of three cases identified by the Court of Auditors, a pre-financing amount was open at the time of recovery. Those two errors have been corrected, as reflected in the final accounts (for a total error of EUR 2,1  million). In the remaining case (EUR 7,5  million), it would not have been possible to record in 2015 a decrease of pre-financing, since no pre-financing amount was open at the time of recovery.

The Commission will take the necessary measures in order to prevent, detect and correct these errors in the future.










THE COURT’S OBSERVATIONS



 





Regularity of transactions






Revenue











25.


Revenue transactions are not affected by a material level of error.






 





Payments











26.




Annex 1
 contains a summary of the results of payment transaction testing. Of the 140 payment transactions examined, 35 (25 %) were affected by error. On the basis of the 28 errors we have quantified, the estimated level of error is 3,8  % (34).






 










27.


When excluding the 15 budget support and 17 notional approach transactions, referred to in paragraphs 9 to 12, from the audited sample, the estimated level of error is 5,8  % (35).






 










28.




Figure 3
 presents the extent to which the different types of error contributed to our estimated level of error for 2015. Errors relating to the absence of supporting documents and non-compliance with procurement rules account for 70 % of the estimated level of error.






 





Figure 3 —   Breakdown of the estimated level of error





Source: European Court of Auditors.





THE COURT’S OBSERVATIONS



 






Projects












29.


Of the 125 payment transactions relating to projects that we examined, 35 (28 %) were affected by error. Of the 28 (80 %) payment transactions affected by quantifiable errors, 16 were final transactions authorised after all ex-ante checks had been carried out.






 










30.


As was the case in previous years (36), the Commission and its implementing partners committed more errors in transactions relating to programme estimates, grants and contribution agreements with international organisations than in other forms of support. Of the 71 transactions of this type examined, 25 (35 %) were affected by quantifiable errors which accounted for 79 % of the estimated level of error.






 





THE COURT’S OBSERVATIONS




THE COMMISSION’S REPLIES











31.


The main types of quantifiable error concerned:






 










(a)


essential supporting documentation not provided (13 transactions) (37);






 










(b)


non-compliance by the beneficiary with procurement rules (seven transactions);






 










(c)


ineligible expenditure, such as expenditure relating to activities not covered by the contract (seven transactions), ineligible VAT (two transactions), expenditure incurred outside the implementation period (two transactions) and indirect costs claimed as direct costs (one transaction);






 










(d)


expenditure not incurred by beneficiaries (seven transactions);






 










(e)


incorrect calculation of expenditure (four transactions).






 





Figure 4 — Examples of quantifiable errors in project transactions





Figure 4 —
   
Examples of quantifiable errors in project transactions








Essential supporting documentation not provided


We examined a clearance of expenditure incurred under the ‘Support to the Institutional Development of the Ministry of Interior’ programme implemented by a national development aid agency in Mozambique. We tested 10 expenditure items. For four of them, relating to supply of laboratory, IT and office equipment amounting to 874 309  euro, the essential supporting documents for the expenditure (e.g. evidence of goods delivery, certificate of origin or procurement documents) were not provided.



Essential supporting documentation not provided


Among others, one of the corrective measures foreseen by the Commission is the inclusion of the sampled contract in 2016 Audit Plan, which was decided prior to the Court’s visit. In addition, the recovery procedure has been initiated for the full amount found ineligible by the Court.







Non-compliance by the beneficiary with procurement rules


We examined the final payment of 427 956  euro under a supply contract for agricultural product testing laboratory equipment in Ethiopia. Under the EU procurement rules, the contract should have been awarded following an open international tender. Instead, the contract was awarded directly to a consulting company without any competitive procedure. This was not justified. In addition, the company was not an authorised distributor of the procured equipment, but only acted as an intermediary and procured the equipment from an authorised distributor. The absence of competitive tendering without justification was in breach of the principle of equal treatment and resulted in restricted competition.



Non-compliance by the beneficiary with procurement rules


The Commission is implementing relevant corrective measures, i.e. the recovery procedure has been initiated for the full amount found ineligible by the Court. In addition, the Commission launched an external expenditure verification of all Programme Estimates managed by the contractor, pending receipt of final reports in order to establish the full amount due.







Ineligible expenditure


We examined a clearance of expenditure amounting to 76 609  euro under the ‘Facilité de Coopération Technique’ programme in the Democratic Republic of the Congo. One item concerned extension works on a building that was not covered by the programme. In addition, the works were carried out between August and December 2013, outside the implementation period from December 2013 to March 2015.



Ineligible expenditure


The Commission is studying the follow-up to be given to this finding.







Expenditure not incurred by the beneficiary


We examined a clearance of prefinancing under the ‘Accelerate progress towards Millenium Development Goal 1c (38)’ programme implemented in Mozambique. The international organisation implementing the programme correctly indicated in its financial report that 3 651 772  euro was incurred in actual costs and a further 1 362 182  euro represented legal commitments (not yet incurred). DG DEVCO mistakenly accepted the total amount of 5 013 954  euro as eligible actual costs.



Expenditure not incurred by the beneficiary


The Commission will take relevant corrective measures by deducing the full amount found ineligible by the Court from next payments.











32.


In nine cases of quantifiable error, the Commissionhad sufficient information (39), via its systems, to prevent, detect, and correct the errors before accepting the expenditure. If all this information had been used to correct errors, the estimated level of error would have been 1,7  percentage points lower (40).






 










33.


In addition, 12 transactions affected by a quantifiable error (41) were subject to an audit or expenditure verification. The information provided in the audit or verification reports on the actual work done did not allow us to assess whether the errors could have been detected and corrected by these ex-ante checks.






 










34.


Non-quantifiable errors related to estimated instead of actual costs (three transactions), shortcomings in the procurement procedures followed (two transactions), insufficient documents (one transaction), and expenditure not covered by the contract (one transaction).






 






Budget support












35.


The 15 budget support transactions examined contained no regularity errors.






 





THE COURT’S OBSERVATIONS



 





Examination of annual activity reports and other elements of internal control systems











36.


In May 2013, DG DEVCO adopted an action plan to address weaknesses in the implementation of its own control system (42). We reviewed the progress of the action plan and obtained evidence that 19 actions had been fully implemented and four were ongoing at the end of 2015.






 










37.


In July 2015, DG DEVCO adopted a new action plan following the third consecutive year of a reservation expressed by the Director General in the 2014 annual activity report. The new action plan contains specific measures targeting high-risk areas: indirect management with international organisations and direct management through grants. Progress on implementing the new action plan will be assessed in next year’s annual report.






 










38.


As in previous years, the frequency of the errors found, including some affecting final claims which had been subject to ex-ante external audits and expenditure verifications, point to weaknesses in these checks.






 










39.


In our last annual report, we reported on the measures already taken by DG DEVCO to improve the quality of these audits and verifications (43). In February 2016 DG DEVCO put in place a quality grid (44) to assess the reliability of checks. This tool will be mandatory for audits and verifications contracted by DG DEVCO after 1 January 2016. However, it is not yet designed to be used for audits and expenditure verifications done by local audit companies directly contracted by beneficiaries (45), where the risk of insufficient quality is assessed to be higher. Furthermore, audit and verification reports do not contain sufficient information on the actual work done to enable the grid to be used effectively.






 





THE COURT’S OBSERVATIONS




THE COMMISSION’S REPLIES











40.


DG DEVCO has also developed a new audit application which became operational in the second half of 2015 and has the capacity to improve the monitoring and follow-up of findings detected by audits and verifications contracted by DG DEVCO. As with the quality grid, the new application does not cover audits and verifications contracted directly by beneficiaries, for which the current monitoring system does not enable DG DEVCO to obtain reliable information about aggregate costs and results.






 










41.


In the areas of document management and procurement, DG DEVCO has put in place a number of measures aimed at improving the situation both for the Commission and for beneficiaries (46). However, the absence of supporting documents and non-compliance with procurement rules are still the main contributing factors to the estimated level of error.






 






2015 residual error rate (RER) study












42.


In 2015 DG DEVCO carried out its fourth RER study to estimate the level of error which has evaded all management checks to prevent, detect and correct errors.













42.



DG DEVCO is going to apply a quality assurance system also for expenditure verifications directly contracted by the beneficiaries. However, since deficiencies in the system are partly linked to deficiencies in the terms of reference for types of engagements, DG DEVCO will first revise these terms of reference. The revision of the terms of reference will include, in addition to reinforced quality requirements, a clearer focus on useful results for assurance purposes.














43.


The study consisted of an examination of a representative sample of transactions relating to contracts closed between September 2014 and August 2015. The results are presented in the AAR (47). The study estimates the RER at 2,20  %, i.e. above the 2 % materiality level set by the Commission. Following a recommendation made in our 2013 annual report (48), the AAR disclosed the scope of the RER study and its limitations compared with an audit engagement (49).













43.



The Commission is considering this possibility. However, given the substantial amount of expenditure verifications implemented, the limited possibilities for follow-up and the investment in resources needed for monitoring them, DG DEVCO needs to assess first the costs and benefits of including them in the new audit application.














44.


The main types of error identified by the study are:






(a)


absence of satisfactory documentation provided by beneficiary organisations to demonstrate eligibility (35 % of the RER);










(b)


ineligible expenditure incurred by beneficiaries other than international organisations (25 % of the RER);










(c)


errors estimated because insufficient evidence was available to check the regularity of transactions (20 % of the RER);










(d)


ineligible expenditure incurred by international organisations (15 % of the RER);










(e)


unrecovered and uncorrected amounts (5 % of the RER).

















44.



The Commission appreciates the Court’s acknowledgment of the measures put in place. The measures incorporated in revised contract and procurement templates will only gradually be visible in the Court’s audit, in line with the increase of commitments based on those revised templates, in the Court’s sample of transactions.














45.


As indicated in our report last year, our review of the 2014 RER study found that there was scope for improvement in a number of respects (50). For the 2015 RER study, DG DEVCO put in place mitigating measures. These address all weaknesses with the exception of the RER-specific estimation method, which has not changed and still leaves too wide a margin for judgement when estimating individual error rates.






 





Review of annual activity report











46.


In the previous three years (2012-2014), the Director-General issued an overall reservation concerning the legality and regularity of transactions in respect of all DG DEVCO’s operations. Following our observations (51), the Director-General made a risk-differentiated declaration of assurance in the 2015 annual activity report.






 










47.


Based on the DG DEVCO analysis of our results and those of the RER studies in 2012-2014 (52), DG DEVCO assessed two spending areas as high risk: (i) grants in direct management and (ii) indirect management with international organisations. Consequently, a reservation concerning the material level of error was issued for these two areas. This is in line with our observations in this and previous annual reports (53). In addition, a specific reservation covering the African Peace Facility was issued due to control weaknesses identified by the Commission’s Internal Audit Service.






 










48.


As regards indirect management with beneficiary countries (54), DG DEVCO’s 2012-2014 risk analysis concluded with a 95 % level of confidence that there was a material level of error (55) in this spending area. However, no reservation was issued for 2015 as the error decreased significantly in the 2015 residual error study. The 2015 RER results are nonetheless significantly less reliable (56) than those of the 2012-2014 analysis.













48.



The number of estimations has decreased year-on-year (2012: 43, 2013: 18, 2014: 15, 2015: 10). The pool of staff performing estimations at the contractor’s level was reduced to two people and each estimation is reviewed at Director and Partner level to ensure consistency. This procedure restricts the margin for judgement when estimating individual error rates.









THE COURT’S OBSERVATIONS



 










49.


Furthermore, unlike with direct management, DG DEVCO’s assessment of indirect management with beneficiary countries does not distinguish between the two main areas with distinct spending and control mechanisms and thus different risk profiles: (i) grants (57) and (ii) public contracts subject to procurement (58). Since DG DEVCO considers grants implemented directly to be high-risk, this would imply that grants implemented indirectly by beneficiary (developing) countries require a similar level of risk analysis.






 










50.


DG DEVCO estimated the overall amount at risk (59) under payments made in 2015 (5 746  million euro) to be 174 million euro (3,0  % of 2015 payments). Of this amount, DG DEVCO estimated that 50 million euro (29 %) will be corrected by its checks in subsequent years (60). This figure was calculated as the average annual amount of recovery orders issued for errors and irregularities between 2009 and 2015. However, the estimate materially overstates DG DEVCO’s future corrective capacity by not excluding (i) recoveries of prefinancing and earned interest, which do not affect future corrections of authorised expenditure, and (ii) cancellations of recovery orders previously issued. It is difficult to estimate the extent of this overstatement for the full period 2009-2015 (61).






 





THE COURT’S OBSERVATIONS




THE COMMISSION’S REPLIES






CONCLUSION AND RECOMMENDATIONS






The conclusion for 2015











51.


We conclude that the EDFs’ accounts for the financial year ending 31 December 2015 present fairly, in all material respects, the financial position of the EDFs and the results of their operations, their cash flows and the changes in net assets for the year then ended, in accordance with the provisions of the Financial Regulation and the accounting rules adopted by the accounting officer.













51.



The risk index for indirect management with beneficiary countries is indeed higher than the one for the remaining spending areas for which no reservation was issued. However, it did not significantly deviate from the average which, in 2015, is very close to the materiality level. In the next AAR exercise a renewed assessment will be undertaken.














52.


We conclude that, for the financial year ending 31 December 2015:






(a)


the revenue of the EDFs is not affected by a material level of error;










(b)


EDF payment transactions are affected by a material level of error (see paragraphs 26 to 35). Testing of transactions indicates that the estimated level of error present in the population is 3,8  % (see 
Annex 1
).

















52.



The design of the internal control templates (ICT) for the definition of the control system in the AAR has to strike a balance between reporting requirements and the information available. There is indeed a possibility that indirect grants have a risk index comparable to the one for direct grants, but given the heterogeneity of contracts pooled into ICT 4 (Indirect management with Beneficiary Countries), and the relatively reduced sample for some of these contracts, the Commission could not yet go further in the analysis.









Recommendations











53.




Annex 2
 shows the result of our review of progress in addressing recommendations made in previous annual reports (62). In the 2012 and 2013 annual reports, we presented 12 recommendations. DG DEVCO fully implemented 11 recommendations, while one was implemented in most respects.













53.



Only the recoveries of prefinancing and earned interest that were encoded with recovery context ‘errors’ or ‘irregularities’ were included in the calculation of the corrective capacity. It represents only a part of the recoveries of prefinancing and earned interest issued in 2015. The Commission will take necessary measures in order to exclude these recovery orders and the ones that have been cancelled from the estimation of the corrective capacity in the future.














54.


Following this review and the findings and conclusions for 2015, we recommend that DG DEVCO:






 










—



Recommendation 1: expand the use of the quality grid to audits and expenditure verifications contracted directly by beneficiaries;







The Commission accepts the recommendation. The Commission is already developing an adaptation of the quality grid to the specific features, needs and implementation modalities of the expenditure verifications.











—



Recommendation 2: adapt the terms of reference of audits and expenditure verifications with a view to obtaining all relevant information on the actual work done that is necessary to assess their quality using the new quality grid;







The Commisison accepts the recommendation. The Commission is already working in this sense.











—



Recommendation 3: assess the costs and benefits of improving the monitoring of audits and expenditure verifications contracted directly by beneficiaries by including them in the new audit application;







The Commission accepts the recommendation. The Commission will assess the cost and benefits of including audits and expenditure verifications contracted by beneficiaries in the new audit application. On the basis of this assessment, the Commission will decide whether this step will be taken or not.











—



Recommendation 4: apply appropriate sanctions to entities that do not comply with their obligation to provide essential supporting documentation for the Court’s audit;







The Commission accepts the recommendation. The Commission will continue to enforce the provisions regarding the issue raised by the Court.











—



Recommendation 5: for payments under indirect management with beneficiary countries, (i) support the declaration of assurance with the statistically most reliable evidence available, and (ii) distinguish between forms of aid with different risk profiles, as is done for payments under direct management; and







The Commission accepts the recommendation. In the next AAR exercise a renewed risk assessment will be undertaken. On the basis of the assessment done, the Commission will decide whether distinguishing between different risk profiles within indirect management with beneficiary is feasible or relevant.











—



Recommendation 6: revise the estimate of its future corrective capacity by excluding from the calculation (i) recoveries of unspent prefinancing and earned interest, and (ii) cancellations of recovery orders previously issued.







The Commission accepts the recommendation. Measures will be put in place in order to:







—



exclude recoveries of prefinancing that were encoded with recovery context ‘errors’ or ‘irregularities’ and cancellations of recovery orders previously issued from the estimation of the corrective capacity in the future,











—



avoid errors in the encoding of recoveries of earned interests.











(1)  For each EDF, the contribution key of each Member State is defined as a percentage of the total amount of resources.

(2)  See Articles 43, 48-50 and 58 of Council Regulation (EU) 2015/323 of 2 March 2015 on the financial regulation applicable to the 11th European Development Fund (OJ L 58, 3.3.2015, p. 17).

(3)  In 2012, a tripartite agreement between the EIB, the Commission and the Court (Article 134 of Council Regulation (EC) No 215/2008 (OJ L 78, 19.3.2008, p. 1)) set out rules for the audit of these operations by the Court. The Investment Facility is not covered by the Court’s statement of assurance.

(4)  See the Court’s opinion No 3/2013 on the proposal for a Council Regulation on the Financial Regulation applicable to the 11th European Development Fund (OJ C 370, 17.12.2013), paragraph 6.

(5)  Regulation (EU, Euratom) No 966/2012 of the European Parliament and of the Council of 25 October 2012 on the financial rules applicable to the general budget of the Union and repealing Regulation (EC, Euratom) No 1605/2002 (OJ L 298, 26.10.2012, p. 1).

(6)  The Directorate-General for Humanitarian Aid and Civil Protection (ECHO) managed 4,1 % of 2015 expenditure from the EDFs.

(7)  See chapter 8 ‘Global Europe’ and ‘Security and Citizenship’ of the 2015 annual report on the implementation of the EU budget.

(8)  Budget support involves the transfer of funds by the Commission to the national treasury of the partner country. It provides additional budgetary resources to support a national development strategy.

(9)  Under direct management, aid is implemented directly by the Commission (head office or the delegations). Under indirect management, implementation is delegated to a third country (former decentralised management), an international organisation (former joint management) or a national body, such as the development agencies of the EU Member States (former indirect centralised management).

(10)  See the Court’s opinion No 3/2013, paragraphs 3 and 4.

(11)  Budget support payments financed from the EDFs in 2015 amounted to 763 million euro.

(12)  The payments to multi-donor projects carried out by international organisations from the EDFs in 2015 amounted to 680 million euro. The proportion of this sum for which the notional approach applies, cannot be provided since the Commission does not monitor it separately.

(13)  OJ L 210, 6.8.2013, p. 1.

(14)  Including 1 139 million euro managed by the EIB.

(15)  2014: 621 million euro; 2013: 3 923 million euro; 2012: 3 163 million euro.

(16)  EDFs and general budget together.

(17)  Old reste à liquider (RAL).

(18)  A contract is considered to have expired if it is still open more than 18 months after the end of its operational period. Delays in contract closure increase the risk of regularity errors as the supporting documentation might be difficult to retrieve if it has not been archived properly and key project staff have left. Late contract closure may also delay the recovery of unspent pre-financing and ineligible expenditure.

(19)  Reduction of old open pre-financing for the EDFs: 39 % achieved (25 % target); reduction of old RAL for the EDFs: 46 % achieved (25 % target).

(20)  15,38 % share of expired contracts (15 % target).

(21)  Of 4,5 billion euro in expired contracts, 2,9 billion (64 %) concerned the EDFs. The ratio of expired contracts to all open EDF contracts was 19,4 %, compared to 15,4 % for the DG DEVCO portfolio as a whole. The operational period of 182 (311 million euro) out of 1 091 expired EDF contracts (16,7 % in number; 10,9 % in value) had expired before the end of 2010.

(22)  Pursuant to Articles 43, 48-50 and 58 of the Financial Regulation applicable to the 11th EDF this statement of assurance does not extend to the part of the EDFs resources that are managed by the EIB and for which it is responsible.

(23)  Financial Regulation applicable to the 11th EDF.

(24)  The accounting rules and methods adopted by the EDF accounting officer are drawn up on the basis of International Public Sector Accounting Standards (IPSAS) or by default, International Financial Reporting Standards (IFRS) as respectively issued by the International Federation of Accountants and the International Accounting Standards Board.

(25)  See Article 44 of Regulation (EU) 2015/323: the financial statements comprise the balance sheet, the statement of financial performance, the statement of cash flow and the statement of changes in net assets.

(26)  See Article 44 of Regulation (EU) 2015/323: the reports on financial implementation include tables of allocations, commitments, assigned funds and payments.

(27)  See Article 43 of Regulation (EU) 2015/323.

(28)  African Union, Burkina Faso, Burundi, Central African Republic, Democratic Republic of the Congo, Ghana, Guinea-Bissau, Haiti, Ivory Coast, Kenya, Madagascar, Malawi, Mali, Mozambique, Niger, Nigeria, Papua New Guinea, Tanzania and Uganda.

(29)  DG DEVCO: 29 payments; ECHO: seven payments for humanitarian aid.

(30)  Paragraph 4 of the 2014 annual report.

(31)  Paragraph 25 of the 2014 annual report and paragraph 20 of the 2013 annual report.

(32)  Incorrect classification of a recovery order in the accounting system by encoding officers.

(33)  Recovery of unspent prefinancing incorrectly recorded as recovery due to error or irregularity has also affected the estimation of DG DEVCO’s future corrective capacity. See paragraph 50 and footnote 61 of this report.

(34)  We calculated our estimate of error from a representative sample. The figure quoted is the best estimate. We have 95 % confidence that the estimated level of error in the population lies between 1,6 % and 6,0 % (the lower and upper error limits respectively).

(35)  The figure quoted is the best estimate based on a representative sample of 108 transactions. We have 95 % confidence that the rate of error in the population lies between 3,0 % and 8,6 % (the lower and upper level error limits respectively).

(36)  Paragraph 31 of the 2014 annual report.

(37)  We report quantifiable errors in cases where no documentation is available at all, where there is no evidence that a reported activity actually took place, or where there is no link between the expenditure charged and the documentation provided. There are two main reasons for reporting missing documentation: (i) either the document has never existed (this should have been detected by ex-ante checks); or (ii) the document exists but could not be retrieved, which points to a weakness in document management.

(38)  “Halve, between 1990 and 2015, the proportion of people who suffer from hunger”.

(39)  On the basis of supporting documentation and mandatory checks.

(40)  For 0,3 % (three cases) the Commission committed the error itself and for 1,4 % (six cases) the error was made by beneficiaries.

(41)  Contributing 1,3 percentage points to the estimated level of error.

(42)  See DG DEVCO’s 2013 annual activity report, pp. 188-190 and 195-196.

(43)  (a) risk analysis made compulsory for the preparation of annual audit plans by EU delegations and DG DEVCO departments; (b) grant contract templates revised so that auditors can be selected or contracted directly by DG DEVCO; (c) awareness-raising about the most common types of error, training and reinforcing of the financial and control skills of DG DEVCO staff and beneficiaries.

(44)  The quality grid is a tool used to assess the assurance provided by an audit or expenditure verification engagement regarding the eligibility and correct use of funding. It aims to ensure that accepted reports are of sufficient quality.

(45)  E.g. mandatory expenditure verifications of grants and fee-based service contracts above 100 000 euro.

(46)  Document management: (a) consolidated instructions on document management; (b) awareness-raising and training; (c) regional seminars for DG DEVCO staff; (d) guidance on proper filing shared with beneficiaries; (e) a new obligation for grant beneficiaries to declare where documents are archived; etc.
Procurement: (a) simplification of procurement rules; (b) selection criteria made clearer; (c) advanced training on contractual procedures; (d) regional seminars on most common types of error; (e) improved on-line access to guidance documents; etc.

(47)  See DG DEVCO’s 2015 annual activity report, pp. 42-43.

(48)  Paragraph 51 and recommendation 5 of the 2013 annual report.

(49)  See DG DEVCO’s 2015 annual activity report, footnote 25.

(50)  (a) compliance with the conditions set for placing reliance upon previous control work; (b) adequate documentation of the audit evidence in support of the conclusions; (c) justification for the decision not to extrapolate the error found in the sample tested to the whole transaction amount; and (d) too wide a margin of judgement when estimating the error rates for individual transactions.

(51)  Paragraph 45 of the 2014 annual report and paragraph 44 of the 2013 report.

(52)  DG DEVCO performed a risk analysis of five main spending areas: (i) direct management — grants (17 % of total DG DEVCO spending in 2015); (ii) direct management — budget support (23 %); (iii) direct management — procurement (7 %); (iv) indirect management with beneficiary countries (22 %); (v) indirect management with international organisations and EU Member State agencies (26 %).

(53)  Paragraph 30 of this annual report, paragraph 31 of the 2014 report and paragraph 25 of the 2013 report.

(54)  The implementation of programmes (both grants and public contracts) is delegated to national authorities of the beneficiary country, mainly in the area of EDFs through the National Authorising Officer.

(55)  The 2012-2014 average error rate for indirect management with beneficiary countries was estimated at 3,56 % (95 % level of confidence: 1,67 %-5,45 %) for 141 RER transactions and at 3,78 % (95 % level of confidence: 2,19 %-5,37 %) for our 264 statement of assurance transactions.

(56)  The 2015 RER study examined 51 transactions in the area of indirect management with beneficiary countries.

(57)  Including programme estimates.

(58)  Works, service and supply contracts, for which the procurement is done by national authorities of the beneficiary country. DG DEVCO is not a party to the contract but endorses it for financing.

(59)  Best conservative estimate of the amount of expenditure authorised during the year but not compliant with the contractual and regulatory provisions applicable at the time payment is made.

(60)  See DG DEVCO’s 2015 annual activity report, p. 58.

(61)  This issue is illustrated by our review of EDF recovery orders issued in 2015, which amounted to 65 million euro and were used in the calculation of DG DEVCO’s future corrective capacity. Of this amount, only 18 million euro actually related to corrections of errors, while the remaining 47 million euro were recoveries not affecting DG DEVCO’s corrective capacity: 45 million euro corresponding to recoveries of prefinancing (37 million euro booked correctly against open prefinancing + 8 million euro booked incorrectly as revenue) and 2 million euro to recoveries of earned interest. From the 18 million euro relating to corrections a further 13 million euro should have been deducted as cancellations of recoveries previously issued.

(62)  The objective of this follow-up was to verify the introduction and existence of corrective measures in response to our recommendations, but not to assess the effectiveness of their implementation.

(63)  Contribution from the EDFs to cover expenditure incurred both at the Commission and in EU delegations on the administrative support needed to manage operations financed under the EDFs.

(64)  Global commitments relate to financing decisions. Individual commitments relate to individual contracts.

Source: 2015 consolidated accounts of the 8th, 9th, 10th and 11th EDFs.

(65)  Include initial allocations to the 8th, 9th, 10th and 11th EDFs, co-financing, interest, sundry resources and transfers from previous EDFs.

(66)  As a percentage of resources.

(67)  Negative amounts correspond to decommitments.

(68)  Global commitments relate to financing decisions.

(69)  Individual commitments relate to individual contracts.

(70)  Net commitments after decommitments. Net payments after recoveries.

Source: European Court of Auditors, based on the EDF reports on financial implementation and financial statements at 31 December 2015.


ANNEX 1
RESULTS OF TRANSACTION TESTING FOR THE EUROPEAN DEVELOPMENT FUNDS








 


2015


2014




 





SIZE AND STRUCTURE OF THE SAMPLE





 




Total transactions



140



165




 





ESTIMATED IMPACT OF QUANTIFIABLE ERRORS





 


 


 




Estimated level of error



3,8  %



3,8  %




 


 


 




 


Upper error limit (UEL)


6,0  %


 




 


Lower error limit (LEL)


1,6  %


 







ANNEX 2
FOLLOW-UP OF PREVIOUS RECOMMENDATIONS FOR THE EUROPEAN DEVELOPMENT FUNDS













Year


Court recommendation


Court's analysis of the progress made


Commission reply




Fully implemented


Being implemented


Not implemented


Not applicable


Insufficient evidence




In most respects


In some respects




2013



Recommendation 1: EuropeAid should ensure that all authorising officers by sub-delegation recover interest generated by pre-financing over 750 000  euro annually (2013 annual report, paragraph 51, recommendation 1).


x


 


 


 


 


 


 





Recommendation 2: EuropeAid should, by the end of 2014, complete the development of the CRIS system to allow interest on pre-financing of between 250 000  and 750 000  euro to be recognised as financial revenue (2013 annual report, paragraph 51, recommendation 2).


x


 


 


 


 


 


 





Recommendation 3: EuropeAid should revise the quantification of benefits of controls implemented (2013 annual report, paragraph 51, recommendation 3).


x


 


 


 


 


 


 





Recommendation 4: EuropeAid should report in the AAR on progress in the implementation of the action plan to address weaknesses in the control system (2013 annual report, paragraph 51, recommendation 4).


x


 


 


 


 


 


 





Recommendation 5: EuropeAid should disclose in the AAR the scope of the RER study and the estimated lower and upper error limits (2013 annual report, paragraph 51, recommendation 5).


x


 


 


 


 


 


 




2012



Recommendation 1: EuropeAid should review its RER methodology (2012 annual report, paragraph 51, recommendation 1).


x


 


 


 


 


 


 





Recommendation 2: EuropeAid should provide an accurate description in the AAR of the results of RER studies (2012 annual report, paragraph 51, recommendation 2).


x


 


 


 


 


 


 





Recommendation 3: EuropeAid should ensure the timely clearance of expenditure (2012 annual report, paragraph 51, recommendation 3).


x


 


 


 


 


 


 





Recommendation 4: EuropeAid should promote better document management by implementing partners and beneficiaries (2012 annual report, paragraph 51, recommendation 4).


x


 


 


 


 


 


 





Recommendation 5: EuropeAid should take effective measures in order to enhance the quality of expenditure verifications carried out by external auditors (2012 annual report, paragraph 51, recommendation 5).


 


x


 


 


 


 


 





Recommendation 6: EuropeAid should ensure the correct application of specific conditions for budget support payments (2012 annual report, paragraph 51, recommendation 6).


x


 


 


 


 


 


 





Recommendation 7: EuropeAid should make sure that recovery orders in respect of interest on pre-financing over 750 000  euro are issued annually (2012 annual report, paragraph 51, recommendation 7).


x